How are high-yield savings accounts different from traditional savings accounts?

Using a high-yield savings account can help maximize your savings goals. (iStock)

If you’re still stashing your money away in a traditional savings account, you could be missing out on extra cash. While most banks and credit unions offer savings accounts, the rates offered vary. The FDIC recently listed the average savings account interest rate as 0.9 percent. That number includes traditional savings accounts and high yield accounts.

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However, with a high yield savings account, you could earn up to 2 percent.

Traditional savings accounts versus high-yield savings accounts

To understand the benefit of a high-yield savings account versus a traditional savings account, let’s look at a few numbers.

For these equations, we’ll assume that you deposit $10,000 into the savings account and make no other transactions.

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If you deposit your money into a traditional savings account with an APY of .1 percent, you’ll earn $10 in interest.

If, instead, you put your cash into a high-yield savings account with a 2 percent APY, your annual earned interest would be $200.

The primary difference between a traditional savings account and a high-yield savings account is the interest rate. High-yield savings accounts encourage saving, so accessing the funds is a bit more difficult. Many high-yield accounts don’t have debit cards and limit the number of withdrawals (via check or electronic transfer) to six per month.

How to choose a high-yield savings account

While you won’t get rich putting your money into a high-yield savings account, the high APY can help you earn a little extra money to use towards debt, funding a vacation, or saving for an emergency.

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Choosing the right high-yield savings account is key. Here are a few things to look out for:

Account fees: There are a lot of high-yield savings accounts available, so you shouldn’t have to pay a ton of maintenance fees. One way to earn a higher APY and pay fewer fees is to use an online bank. Since the bank doesn’t have to pay for a brick and mortar facility, they can pass those savings on to you.

Minimum deposits or balances: Many high-yield accounts require a large initial deposit and/or monthly balance. It’s not uncommon to see minimum deposits as high as $10,000. You can still access high-yield accounts if you don’t have much cash on hand. Some high-yield accounts have no minimum deposit requirement. Look around until you find one that works for you.

APY: The best way to maximize a high-yield account is to look for the best APY for your financial situation. In many cases, it may make sense to choose a bank that offers a lower APY and no fees, versus an account that boasts a higher APY, but also higher account fees.

Saving for your future

A high-yield savings account is a good tool to increase the money you want to spend later. Since this type of account encourages saving, you’ll want to have a separate account that you can regularly access for paying bills and short-term expenses.

For the best financial security, you’ll want to create a savings plan that considers short-term savings (vacation, Christmas, taxes), emergency funds, and retirement. A high-yield savings account is not ideal for retirement but functions well for an emergency fund and short-term savings.

Vanguard recommends building up at least three to six months of money in an emergency account. To determine how much money you’ll need, take a look at your monthly budget. Include the following:

  • Mortgage/Rent.
  • Food.
  • Utilities.
  • Health Care (insurance).
  • Transportation (car payments, car insurance, gas).
  • Personal expenses (clothing and other miscellaneous expenses).
  • Debt.

Add up your total expenses and multiply that by three or six to figure out your savings goal. Once you know your total, you can divide that number by 12 to determine how much to save each month so you can reach your goal in a year. If that number is too high, you can take more time to build your savings based on what you can afford to set aside each month.

Saving even a little bit of money can be a lifesaver in an emergency.